Is Distressed Fundraising Still Red Hot?

In 2008 and 2009, distressed debt was the most in-demand private equity strategy for institutional investors. And it doesn’t seem to have cooled off this year, despite a recovering economy and general sluggishness within the private equity fundraising market.

Oaktree Capital Management, Centerbridge Partners, Lone Star and MHR Fund Management are just a few large distressed debt firms currently raising new funds. 

There are a number of reasons these players are likely to find success. For starters, they are riding the coattails of last year’s blockbuster year for distressed debt (i.e., strong strack records). Admittedly, debt is trading around par this year — and much of the upside for distressed debt plays is behind us — but timing concerns rarely dampen LP enthusiasm.

“Aside from the limits of the market opportunity, most investors are still looking to deploy capital in that space,” said Jérémie Le Febvre, a partner with fund placement agent Triago. One reason, he explained, is that many investors remain overallocated to buyout funds due to the 2005-2007 binge, but remain under-exposed to distressed.

Moreover, competition from hedge funds with similar strategies has become less fierce. A number of those hedge funds either were forced to shift their models to closed-end private equity funds or have simply gone away thanks to massive redemptions after the late 2008 market crash.

Le Febvre added that much of the capital in the last fundraising cycle went to the largest players, and it’s likely to be the same this time around. “Distressed investing is perhaps one of the only strategies that, as players like Oaktree demonstrate, the bigger you are, the better you perform,” he said. For that reason, investors are more reluctant to get behind small distressed operations. “[Distressed debt investing] is based on extensive resources. You just can’t do it in your kitchen with a Bloomberg screen, which many of [the start-up shops] thought they could do,” he added.

So here are some more details on the aforementioned large distressed players currently in market with new funds: 

  • Centerbridge Partners is raising its second fund dedicated to a hybrid strategy of distressed debt and operational turnarounds. The firm’s last fund had $3.6 billion in commitments; according to Buyouts magazine the latest incarnation is only targeting $2 billion in commitments. By last count in July 09, the firm had $467, according to an SEC filing. Park Hill is the firm’s placement agent.
  • Oaktree Capital Management is seeking between $4 billion and $6 billion for its 8th distressed fund.
  • Lone Star is raising $4 billion for a new distressed fund; the firm has raised $500 million as of Q1. The firm’s target has been revised, mind you, from a lofty initial goal of $12 billion.
  • MHR Fund Management has been preparing to enter the market with a new fund of undisclosed size. The firm in 2007 closed its third fund with $3.5 billion in commitments and was rumoured to be seeking at least $4 billion this time around. LPs included Arcano Capital, CalPERS, the Montana Board of Investments and the New Jersey Division of Investment. Credit Suisse served as placement agent.